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Unformatted text preview: IN THIS CHAPTER YOU WILL . . . S e e h o w th e b u r d e n o f a ta x is s p lit b e tw e e n b u y e rs a n d s e lle rs C o n s id e r h o w a ta x o n a g o o d a f fe c ts th e p ric e o f th e g o o d a n d th e q u a n tity s o ld E x a m in e th e e f fe c ts o f g o v e rn m e n t p o lic ie s th a t p la c e a c e ilin g o n p ric e s E x a m in e th e e f fe c ts o f g o v e rn m e n t p o lic ie s th a t p u t a flo o r u n d e r p ric e s L e a rn th a t ta x e s le v ie d o n b u y e rs a n d ta x e s le v ie d o n s e lle rs a r e e q u iv a le n t Economists have two roles. As scientists, they develop and test theories to explain the world around them. As policy advisers, they use their theories to help change the world for the better. The focus of the preceding two chapters has been scien- tific. We have seen how supply and demand determine the price of a good and the quantity of the good sold. We have also seen how various events shift supply and demand and thereby change the equilibrium price and quantity. This chapter offers our first look at policy. Here we analyze various types of government policy using only the tools of supply and demand. As you will see, the analysis yields some surprising insights. Policies often have effects that their architects did not intend or anticipate. We begin by considering policies that directly control prices. For example, rent- control laws dictate a maximum rent that landlords may charge tenants. Minimum- wage laws dictate the lowest wage that firms may pay workers. Price controls are S U P P L Y , D E M A N D , A N D G O V E R N M E N T P O L I C I E S 117 118 PART TWO SUPPLY AND DEMAND I: HOW MARKETS WORK usually enacted when policymakers believe that the market price of a good or ser- vice is unfair to buyers or sellers. Yet, as we will see, these policies can generate in- equities of their own. After our discussion of price controls, we next consider the impact of taxes. Policymakers use taxes both to influence market outcomes and to raise revenue for public purposes. Although the prevalence of taxes in our economy is obvious, their effects are not. For example, when the government levies a tax on the amount that firms pay their workers, do the firms or the workers bear the burden of the tax? The answer is not at all clearuntil we apply the powerful tools of supply and demand. CONTROLS ON PRICES To see how price controls affect market outcomes, lets look once again at the mar- ket for ice cream. As we saw in Chapter 4, if ice cream is sold in a competitive mar- ket free of government regulation, the price of ice cream adjusts to balance supply and demand: At the equilibrium price, the quantity of ice cream that buyers want to buy exactly equals the quantity that sellers want to sell. To be concrete, suppose the equilibrium price is $3 per cone....
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